With its playful indoor slide and five-storey “bio-wall” of greenery, Toronto’s five-year-old Corus Quay building—the headquarters of Corus Entertainment—served as an inspirational backdrop for attendees of Fortress Real Development’s “Listen, Learn and Lunch” event three years ago. Attendees at the glitzy real estate event on the shore of Lake Ontario noshed on sliders and listened intently to speeches by several Fortress executives, including CEO Jawad Rathore and chief operating officer Vince Petrozza, as well as star local developers like Toronto “condo king” Brad Lamb. “There’s many ways to make money in real estate,” Lamb says in a heavily edited video of the event posted on Fortress’s YouTube channel, complete with jaunty music. “But one way to make money in real estate is the safe way, which is buying Fortress investments.” A few moments earlier, a Fortress exec trumpeted the value of the firm’s partnerships with Lamb and a Windsor, Ont.-area developer named Charles Mady, saying they are “some of the strongest partnerships you can imagine being part of.”

Fast forward to 2016: Fortress has taken over one of Mady’s projects in Barrie, Ont.—a building with 82 condo units and an eight-storey office tower—after both the development and developer ran into financial trouble. It’s a good thing Fortress stepped in, too, otherwise potentially hundreds of investors who funded Fortress’s contribution to Collier Centre through what’s known as a “syndicated mortgage” may have lost their shirts.

It was stark reminder that there’s no sure thing in the investing world, including Canada’s supposedly “proven” real estate market (to borrow another term from Fortress’s marketing). Yet Fortress has ridden a wave of enthusiasm for its housing and condo projects in recent years, as eager investors, many of them already homeowners, have sought to double down on their exposure to that overheated sector of the economy.

Headed by Rathore and Petrozza, Fortress Real Developments promises to scout out “high quality” projects with “top developers” across the country, including condos in relatively sleepy centres like Barrie, St. Catharines, Ont., and Regina. The firm then offers developers services that include everything from “analyzing and buying the land, to hiring the architects, to building the sales centre to retaining the planners who obtain permits and approvals from the city to improving the quality of the rental units.”

The real magic, however, happens on the back end. Investors are offered a way to participate in Fortress projects through a special type of mortgage, arranged through a mortgage broker, that packages the combined cash of several hundred investors and then lends it all to a developer. In exchange, investors are told to expect annual interest rates of eight per cent or more, with the amount of their original loans “fully secured” against the properties in question should anything go wrong. It’s even an RRSP-eligible investment in most cases. No surprise, then, the low-risk, high-reward sales pitch has proven popular among many Canadians in an era of gyrating stock markets and savings-killing low interest rates. More than half a billion dollars has been funnelled into 70 Fortress projects on behalf of thousands of investors since 2008, the company boasts in sales material. Of those, 13 have been completed and investors have been paid out.

However, the sales pitch for syndicated mortgages is one that investor advocates find deeply troubling. “We’ve been looking at [the sector] lately because some of the ads out there promise safety and guaranteed returns,” says Neil Gross, the executive director of the Canadian Foundation for Advancement of Investor Rights (FAIR). In Ontario, he notes that syndicated mortgages aren’t overseen by the province’s securities regulator even though they often resemble more familiar investments. “It concerns us that regulation of what mortgage brokers are doing out there isn’t very robust. They’re engaging in activities that, if regulated by the Ontario Securities Commission, would get considerably more scrutiny.”

There has already been at least one scandal in the sector and warnings from both regulators and the investment industry’s self-regulating bodies. But the red flags have so far done little to deter house-crazed Canadians who already believe real estate investments are always a safe bet—an attitude that could end up costing them dearly.

It’s difficult to get a handle on the true size of the syndicated mortgage business across Canada, since each province regulates the sector in different ways. However Ontario’s experience shows how increasingly popular they have become. Sales of syndicated mortgages totalled nearly $4 billion there in 2014, the most recent year for which figures are available, according to the Financial Services Commission of Ontario (FSCO), which oversees mortgage brokers in the province. That’s up from $1.5 billion in 2009. When banks began to impose more restrictive borrowing requirements on condo developers four years ago amid concerns of overbuilding, that spurred demand for alternative sources of capital to help finance projects.

Rathore at the groundbreaking ceremony for a hotel and condo project in Regina.

Fortress, one of the industry’s most high-profile players, is involved with 17 projects currently under construction across Canada, while another eight are scheduled to break ground this year—all of them funded in part by syndicated mortgages, says company spokesperson Natasha Alibhai. They include: Lamb Developments’ 23-storey Soba condo in downtown Ottawa, the 31-storey 6th & Tenth tower in Calgary and the 26-storey Capital Pointe condo and hotel development in downtown Regina. In Winnipeg, Fortress is behind a 45-storey condo development called SkyCity Centre, which is advertised as the “tallest free-standing structure between Toronto and Calgary.”

Yet another example of the company’s growing national profile: Petrozza and Rathore rang the opening bell of the Toronto Stock Exchange in 2012 as guests of the Maple Leaf Sports and Entertainment’s Team Up Foundation, the charitable arm of the ownership group behind the Toronto Maple Leafs and Toronto Raptors. One year earlier, Rathore, a big basketball fan, stood at centre court during a Raptors game and presented an $80,000 cheque to the foundation.

The TSX visit was a public high point coming just a few months after the two men agreed to a $3-million settlement with Ontario’s securities regulator. The 2011 settlement agreement said the pair, along with another colleague, “engaged in conduct contrary to the public interest” when they sold clients of their debt-management business shares of two companies ultimately implicated in a B.C.-based stock scam. The agreement included a 15-year ban from trading securities for both Petrozza and Rathore, although there was an exemption for “mortgage instruments” which fall outside the purview of the OSC. “At the time that the OSC settlement was entered into, Fortress was a pre-existing business that was known to staff of the Ontario Securities Commission and which was not in any way associated with the subject matter of the settlement,” Alibhai, the Fortress spokesperson, wrote in an email.

That charity cheque, incidentally, was on behalf of Fortress Real Capital, a sister-company that advertised investment opportunities in Fortress Real Development projects through its partner, Centro Mortgage, as recently as December. (The complex structure of the business, apparently created to comply with Ontario rules that stipulate only licensed mortgage brokers can offer syndicated mortgages, was recently overhauled. Alibhai said both Fortress Real Development and Fortress Real Capital are “real estate development companies” and that all new real estate consulting work since 2012 has been handled by the former. She also said Centro changed its name to Building & Development Mortgages Canada Inc., “to better reflect the services it provides.” Neither Rathore nor Petrozza were available to comment for this story, she said.)

So how exactly do syndicated mortgages work? A few hundred people agree to lend money, usually a minimum of $25,000 each, to a developer in exchange for a fixed annual interest rate of between eight and 12 per cent over a term of two to five years. Unlike other pooled real estate investments, syndicated mortgages allow investors to pick which projects they want to be involved with and secure their portion of the mortgage on the property in question. If the project performs well, investors may be eligible to receive extra payouts. If it goes bankrupt, investors can theoretically recover the principal amount of their loans following the sale of the property.

It’s this combination of fixed returns and the promise of “security” that’s proven to be a winning marketing formula. “Fortress Real Capital allows you to invest directly into large-scale real estate development projects with real security and earn real returns,” advertises an earlier version of the Fortress Real Capital website. A video explaining syndicated mortgages on the website of FDS Broker Services, which sells syndicated mortgages for Fortress projects directly to investors, kicks off by asking: “What if there was a way to safely invest in your neighbourhood, your neighbours and your community? Well, there is.”

The problem, however, is there’s nothing particularly “safe” about a syndicated mortgage. As Fortress suggests on its website, the money is typically used by developers to cover so-called “soft costs” like obtaining permits and building sales centres—basically everything a developer needs to pre-sell enough units to attract financing from a bank. But even in a hot market like Canada’s, there are no guarantees a given condo project will get off the ground, regardless of how quickly buyers snap up the units. “I’ve been exposed to multi-million-dollar projects where things have gone bad really fast,” says John Bargis, a Toronto-area mortgage broker. “It’s not because it’s not a viable project, but there’s just so many moving parts. You’ve got construction managers, contractors, builders—so many things that can go wrong from an investment perspective or a sales perspective.”

The myriad risks explain why syndicated mortgages pay interest rates approaching double digits at a time when a five-year Guaranteed Investment Certificate, or GIC—a truly “safe” investment—offers only 1.5 per cent annually for a five-year term.

There’s another problem, too: if something goes wrong with a project, syndicated mortgage investors are subordinate to banks and other primary lenders, meaning they’re further back in line for repayment—assuming there’s enough money left over after other lenders have received their share. The Collier Centre project in Barrie, Ont., for example, filed for bankruptcy protection last year despite selling all of the available condo units and leasing a third of the retail space. The developer, Mady, owed roughly $30 million to Laurentian Bank, the primary lender, and nearly $17 million to the Fortress loan syndicate. Yet the value of the land in 2012 when Mady purchased it from the city, in a deal that included promises to provide parking and office space, was just $4 million. Even though property values have appreciated since then, it’s far from certain reselling it would have fetched enough to repay the project’s primary lenders, never mind syndicated mortgage investors.

Glenn May-Anderson, the principal broker and president of FDS Broker Services, defends the Collier Centre arrangement. “You can’t use the purchase price of the land to ascertain the value of the land at construction—there was a massive amount of work-in-progress at the time construction began, which meant the land was worth far more than what it was purchased for,” he says. Fortunately for syndicate investors, they may never have to find out. Fortress agreed to bail out Collier Centre project last year and see it through to completion. Construction is now scheduled to be completed in about a year.

Given the rising popularity of such investments and the clear risks involved, one would think syndicate mortgage products would be carefully regulated like mutual funds or other investment products. But in Ontario, at least, there are concerns that FSCO, the regulator that oversees the mortgage business, doesn’t offer the same level of oversight as the province’s securities regulator, and is less equipped to enforce the rules it does have. “There has been an observable increase in non-standard services, such as syndicated mortgage promoters and non-bank lenders,” reads a preliminary position paper by a three-member panel that was struck last year to oversee FSCO’s mandate. “These services are encompassed by existing legislation, but there are those who feel the regulator has not applied adequate scrutiny.”

Gross, for one, would like the OSC to take over responsibility for syndicated mortgages until FSCO is overhauled. He says that would help reduce the risk of “regulatory arbitrage” within the investment industry. “Often you’ve got dual licensed people who might be migrating over to the lesser regulated area,” he says. “That concerns us because the protections for consumers aren’t there.”

In areas where the OSC does have jurisdiction, it hasn’t hesitated to act when it suspects something’s amiss. The provincial regulator last year accused Lance Kotton’s Titan Equity Group of raising $30 million from investors on three properties through various instruments, many of which were syndicated or pooled mortgage investments (while the OSC says Kotton was a licensed broker, Titan was not a licensed “mortgage agent” and so didn’t qualify for an exemption from OSC regulation). More than $21 million remains missing. The OSC alleges some of the proceeds were used for Kotton’s “personal enrichment,” including “excessive” management fees of more than $1 million and $600,000 worth of vehicle expenses over a year and a half. (In a YouTube video posted last year Kotton talks about his business while driving around the Greater Toronto Area in a $300,000 convertible McLaren “supercar.”) As recently as 2011, Kotton was the marketing manager for Fortress Real Capital according to a company press release at the time.

May-Anderson, however, argues FSCO’s oversight of the mortgage sector is “adequately addressed” as is. The FDS president says prospective syndicated mortgage investors fill out mandatory “know-your-client” risk assessment forms and are given a full disclosure of the risks associated with real estate development and the project in question. Lenders are also offered free, independent legal advice. “Private lending via syndicate is not new, even for development and construction financing,” he wrote in an email. “We feel current laws and regulations properly protect investors, and will continue to work with the FSCO constructively on any future enhancements that increase agent/broker training and supervision, ensure proper disclosure, and that help determine the suitability of these loans for consumers.”

Fortress similarly stresses it’s doing everything by the book—and diligently pursues those who suggest otherwise. Just last month Petrozza and Rathore filed a lawsuit against a prominent real estate analyst and noted housing market bear, Ben Rabidoux, over a series of comments he had posted on Twitter. The year before, the two sides had reached a settlement in an earlier libel suit that saw Rabidoux make an extraordinary apology without reservation and agree “not to make any comments, suggestions, opinions or statements of any kind whatsoever about Messrs. Rathore, Petrozza or their businesses, subsidiaries, affiliates, directors, officers, employees, agents, representatives, business associates, partners, projects . . . in any forum.” Rabidoux declined to comment for this story.

With billions flooding into Canadian real estate of late, it’s no surprise there are warnings that some corners of the industry are becoming a Wild West. Even FSCO now admits as much. It said in a December report that, while compliance among mortgage brokers has improved in recent years, it intends to conduct a more detailed investigation of syndicated mortgage transactions over the next 12 months “given the significant risk syndicated mortgage investments pose to consumers.”

For now, Canadians considering jumping into the real estate development business should use their common sense. Look past the slick sales pitches and free canapes and remember the old investing adage: If it sounds too good to be true, it very well might be.

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